Prepared by
Simon Man Tou Iau
Since 1979, China has been opening its purely socialist, state-run economy to include elements of the free-market system. By doing so, China is paving the way toward becoming an economic superpower. More and more foreign business people are conducting business either with or in China. To do this successfully, they must prepare themselves by learning the business environment in China. This paper will focus on the overview of the business environment in China: the types of business enterprises, sources of business financing, and general summary of Business Laws, and finally it will mention the Business Law for Enterprises with foreign investment in China.
Introduction
With a population of 1.2 billion, China will be a driving economic force in the 21st century. According to the Embassy of the People's Republic of China, in 1995, more than 260,000 foreign-funded enterprises have been licensed throughout China, half of which are in operation. Direct foreign investment in China hit a record $37 billion in 1995, up from $33.8 billion in 1994 (Forney, 1996). China offers the opportunity to market to 1/6 of the world's population. Alan C. Kilberg, managing director of 3M China Ltd. (which began operations in 1984), says Asia represented a $300 million market for 3M in 1991, and by 1995 it was worth $800 million. He says by 2000, that $800 million should be growing to approximately $2 billion and the China region - China, Taiwan, and Hong Kong - is going to represent about $700 million in sales, up from about $300 million in 1995 (Taninecz, 1996).
Overview of Business Environment
Like 3M, many American corporations have invested heavily in China. The rapid economic growth, coupled with the government's steadfast endeavors to improve the environment for foreign investment, using new policies and measures has made China an attractive target for foreign investment. However, some bad signs such as sociopolitical instability, high inflation, labor unrest, inadequate energy supply, underdeveloped infrastructure, limited local financing, and low labor productivity still intimidate many foreign investors. The desire to join the World Trade Organization will force China to liberalize its trade policies, and set up more Business Laws which are compatible to those of Western nations. As many people can see, China has already made great strides in transforming its economy from a command economy to one that is market driven.
Enterprises in China
Chinese enterprises can be broadly classified into four categories: state-owned enterprises, collectively owned enterprises, private enterprises and foreign enterprises. Foreign capital enterprises came into existence in China only after implementation of the open door policy that was brought about by the 1979 Economic Reform.
State-owned enterprises may either belong to the central government (ministries) or to the local governments at various levels. Theoretically, state-owned enterprises are considered to be "the enterprises owned by the whole people." The prime minister, governors, mayors are all managers, however, because they are responsible for multiple administrative functions and duties as head of the government, they usually delegate managerial power to subordinate and specialized ministries. Two biggest state-owned enterprises are state-owned farms and army-run enterprises.
Collectively owned enterprise is the second important category of enterprises in China. It was administrated by local governments, and assigned production targets were incorporated into the state plan. Nevertheless, local governments have now established Bureau of Light Industry with supervisory authority over the business activities of the collectively owned enterprises. Government seems to exert less control over collectively owned enterprises than it does in relation to state-owned enterprises.
Private enterprise is an individual owned enterprises with more than eight employees. It can be established in one of three legal forms: solo proprietorship, partnership, or company with limited liability. Only a company with limited liability is entitled to register with the government as a legal person. However, private enterprises remain subject to governmental control, especially in the areas of foreign investment and foreign trade.
State and collectively owned enterprises are typically more reliable than the non-governmentally owned enterprises in terms of financial stability because they have been created under government sponsorship and are consequently more likely to obtain financial support in the event of serious economical difficulties. On the other hand, private enterprises possess more flexibility in business operations than state and collectively owned enterprises.
Foreign enterprises are wholly-owned ventures. According to the 1986 Foreign Enterprise Law and 1990 Implementing Rules, foreign enterprise should reflect more government control than joint venture legislation, for only doing so, the government reasoned that it could have no Chinese partners. Then, foreign enterprise must adopt advanced technology and equipment, or export all or most of its product. These two basic requirements are designed to block the entry of foreign firms that intend to share the domestic market with Chinese manufacturers without bringing in any technology.
Sources of Business Financing
The securities market is a new source of corporate funding in China. Nowadays, In order to raise enough capital, the financing usually involves the use of capital market instruments and commercial bank loans. There are three basic sources for business financing: 1) shareholders contribute capital by buying the corporate stocks; 2) corporation borrows from the commercial bank; 3) corporation utilizes its retained earning. Contributed capital and retained earnings are two of the three elements in stockholders' equity. As a result, assets are financed by liabilities and stockholders' equity.
Summary of Business Laws
Investment in China holds an attractive investment potential for foreign investment. Cost-effective Chinese labor, together with the preferential treatment provided by recently enacted Business Laws and regulations, have been encouraging to many foreign investors. Since 1988, Ministry of Finance has approved and issued new Business Laws to public. I am going to discuss some of them which include: Enterprise Law, Joint Venture Law, Corporation Law, Banking Law, Economic Contract Law, Foreign Exchange Regulation, Insurance Law, Securities Act, Advertising Act, Trademark Law and Antitrust Law. Now, let me start from State-Owned Enterprise Law and then mention other major Business Laws that have already passed in China.
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State-Owned Enterprise Law
Article 1. Basic Principles of Enterprise Law: The principles are: 1) ownership and management are separate issues; 2) managers are responsible for the enterprise operations; 3) instead of managing the enterprise, the state is now monitoring its activities; 4) the (communist) party monitors the policies of enterprises and makes sure they have been performed correctly; 5) Its goal is to increase employees feeling in responsibility, enthusiasm and creativity.
Article 2. Rights and Responsibilities of an Enterprise: Its rights include producing, pricing, purchasing, investing, exporting/importing, administrating, laboring, etc. Then, its responsibilities include: finish the required projects and contracts; repair, improve, purchase the amount of fixed assets; comply with the government regulation and supervision in financing and pricing; improve the quality of product, decrease material usage, and finally protect the environment.
Article 3. Establishment, Changing and Dissolution of an Enterprise: Several criteria for establish an enterprise include: 1) its product is required by the society; 2)It has required material, energy and transportation; 3) It has a name and a place to operate business; 4) It has compiled with the amount of required capital; 5) It has its own organization and people; 6) It has complied with law and regulation for the business area. An enterprise will be dissolved if: a) its product does not comply with the government standard or the product does not have any market; b) the enterprise has a huge loss or debt; c) merger or split has been occurred.
Article 4. Internal Management System of an Enterprise: This article not only defines managers’ power and responsibilities, but also the rights and responsibilities of employees.
Article 5. Relationship Between Enterprise and Government: Enterprise is belonged to the state and owned by people. Nevertheless, enterprise still has some power to make some of its own decision.
Private Enterprise Law
Article 1. Kinds of Private Enterprises: They are classified as solo proprietorship, partnership and corporation.
Article 2: Establishment and Termination: In order to establish a private enterprise, applicants must file the appropriate registration forms (e.g. location of the business, the amount of capital and names of investors) to State Administration for Industry and Commerce. On the other hand, if an enterprise wants to close its business, it also needs to file to State Administration for Industry and Commerce. Termination can be voluntary or involuntary (like bankruptcy, court order).
Article 3. Rights and Responsibilities: Rights include employ workers, decide the amount of wages and profit sharing, apply trademark or patent, enter contracts, etc. Then, its responsibilities include pay taxes, comply with the government regulation, and has sufficient accounting system.
Article 4. Management and Supervision: Issues include improve productivity of its employees, decide wages, disallow child labor (less than 16 years old), file registration and get licensing.
Sino-Foreign Contractual Joint Venture Law
Article 1. Overview of Joint Venture: Foreigners form a partnership with Chinese investors.
Article 2. Formation of Joint Venture: Applications for the establishment of a cooperative joint venture enterprise must include copies of the agreement, contract, articles of association, and other relevant documents signed by Chinese and foreign parties, and then submit them to the State Council for examination and approval.
Article 3. Contributing Capital to Joint Venture: It can be made in the form of investment loans, leased property in the name of the joint venture or utilization of a third person's assets.
Article 4. Management and Profit Sharing of Joint Venture: Joint venture has board of directors; president, vice president and directors for handling its major problems. After its financial statements have been audited by the certified public accountants in China, certain amount of profit can be distributed.
Article 5. Solving Disputes: If disputes occur, they can be either solved by consultation, arbitration or prosecution.
Article 6. Termination: A joint venture may be dissolved in the following ways: 1) termination of its contractual term; 2) inability to continue operations as a result of heavy losses; 3) inability to continue operation because of a breach of the contract, agreement, or articles of association; 4) inability to continue operation resulting from heavy losses caused by force (e.g. war); 5) failure to achieve material business objectives; and 6) other causes for dissolution that are prescribed in the contract, agreement, and articles of association.
Corporation Law
Article 1. Overview of Corporation: Corporation is a profit-driven legal entity that separated from its shareholders or owners. Corporation Law formalizes the rules and procedures for company operations.
Article 2. Limited Liability Corporation: Shareholders have limited liability on corporation debt and losses. However, the number of shareholders cannot be exceeded 50, it also cannot issue stock or be publicly traded.
Article 3. Corporation Limited By Shares: Different from limited liability corporation, this corporation can issue stock and bond, has no limited number of shareholders, so that it will be easier to raise capital.
Article 4. Corporate Bond and Finance: Corporate bond is one of the ways that corporation borrows money from the public. In order to protect the shareholder's interest, the Corporation Law requires that corporation has to have a good accounting system.
Article 5. Consolidation, Bankruptcy, Dissolution and Liquidation: Consolidation is two or more corporations join to become a completely new corporation. The original corporations cease to exist and the new corporation acquires all their assets and liabilities. Sometimes, dissolution can be occurred by corporation stops to perform business activities, or shareholders initiate dissolution.
Article 6. Lawful Responsibility: For instance, shareholder should contribute the amount of capital that states in the article of corporation. Corporation Law points out that it will definitely punish people who are making falsely registration or fraud.
Banking Law
Article 1. Overview of Banks and Banking Law: Banking Law points out bank’s overall rights and responsibilities. Moreover, it also protects customers' interest in their bank account.
Article 2. Centralized Banking Law: Central Bank is responsible for the income and expense of a nation. Moreover, its other duties are in charge of the monetary policy, interest rate, balance the prices of goods, and requires each bank to keep at least a minimal amount of reserve.
Article 3. Specialized Banks, Mixed and Other Financial institutions: Specialized banks are specialized in certain areas, for example, Bank of Industry and Commerce and China Investment Bank. Mixed banks are banks that do not restrict in area. Other financial institutions are organizations, other than banks, that involve in financial activities.
Article 4. Monetary Regulation: People's Bank of China is responsible for issuing the amount of renminbi (RMB). Other duties include monitor the financial policies, safeguard the amount of gold and silver, and against fraudulent currency.
Article 5. Loan Regulation (Management): Another duty of bank is to loan capital to individuals and corporations.
Article 6. Saving Management: Saving deposit can be current, fixed or in foreign currency (which are mainly for foreigners), is a good way to accumulate capital from public.
Article 7. Trust Management: A trust involves an arrangement by which legal title to property is transferred from one person’s to be administered by a trustee for another benefit. Trustee is acting behalf of third parties. Trust can be commercial trust, financial trust, trust for liquidation or trust for safeguarding estate.
Economic Contract Law
Article 1. Overview: It defines economic contracts are agreements reached between legal persons to define their mutual relationship with regard to their rights and duties, so as to achieve certain economic goals.
Article 2. Formation of Contracts: Enterprises are permitted to enter into contracts according to their individual needs and purposes. The principle of equality, mutual benefits, agreement through consultation, and corresponding economic rewards must be followed as a guide to contract formation.
Article 3. Guarantee of Contract: It can be guaranteed in three forms: security deposit, personal guarantee, or through the vehicle of lien enforcement.
Article 4. Modification and Termination of Contract: A contract may be modified or terminated if 1) the parties agree to modify or terminate the contracts through consultation; 2) the state plans upon which the economic contracts are based are revised or terminated; 3) any contracting party finds it impossible to perform the contract because of the close of business, or suspension of production; 4) the performance of the contract by any contracting party is prevented by force; or 5) continuation of performance of the contract becomes unnecessary due to the failure of performance by another contracting party.
Article 5. Liability for Breach of Contract: If a contract is breached, a nonbreaching party has the right to collect payment of liquidated damages. Then, other remedies like damages, specific performance and personal responsibility are available under the Economic Contract Law. Article 6. Control of Contract Formation and Performance. Statutory provisions concerning contract control and management are a distinctive feature of China's central planned economy. The Economic Contract Law delegates the power of contract control to the relevant superior authorities of the contracting parties and to the Administration of Industry and Commerce at various levels.
Foreign Exchange Regulation
Article 1. Foreign Exchange: It includes foreign currency, foreign government bond, corporate stock, bond, and certificate deposit. The purpose of Foreign Exchange Regulation is to protect the domestic market and keep its own currency stable against other foreign currencies. Though China is switching from tight to semi-tight control in foreign exchange regulation, most of the time, China is still acting in centralized management.
Article 2. Penalties for Violating Foreign Exchange Regulation: China does not allow arbitrage transactions, foreign currency evasion and any actions that disturb financial activities. The monetary penalties can be as high as 10 to 30 percent of those illegal amount of foreign currency.
Insurance Law
Article 1. Overview and Kinds of Insurance: Insurance is a way to transfer risk to a guarantor by paying certain amount of fee. Some are involuntary insurance, like airline passenger insurance which is required by the government. Other insurance are voluntary, like estate insurance, health insurance or unemployment insurance.
Article 2. Insurance Organizations: There are several types of insurance organizations: national insurance company, insurance corporation, corporate insurance organization, and individual insurance organization.
Article 3. Insurance Contract: Insurance contract is used to be paid the monetary amount when accident occurs. It can be fixed value, nonfixed value, estate, or life insurance contract.
Article 4. Re-insurance: Insurance company transfers some of its responsibilities (risk) to other insurance companies. Sometimes the re-insurance can be temporary, but sometimes it can be fixed between insurance companies.
Securities Act
Article 1. Overview of Securities: Securities Act is used to regulate the offer and sales of securities. Securities can be stock certificates, bonds, notes, and food stamps. It helps company to accumulate capital, divide ownership, and provide public an investing opportunity.
Article 2. Bonds: Bonds can be classified as public bond, financial bond and corporate bond. Public bonds can be government, state, or local government bond. Corporate bond has a high interest rate but is more riskier than the government bond.
Article 3. Stock Certificates: Stock certificate is a certificate issued by a corporation evidencing the ownership of a specific number of shares at a specific time. In China, there are numbers of stocks like common stock, preferred stock, national stock, individual stock and special stock (for foreigners, investors from Taiwan and Hong Kong).
Advertising Act
Article 1. Overview of Advertising: In China, advertisement can be in the form of economical ad (merchandise), cultural ad (art, movie or science), social ad (welfare, lost and found), and government ad (public announcement).
Article 2. Advertising Law and System: Advertising Act points out the purpose, principles, and content limit on advertisement. Furthermore, it also states the penalties for people who breaching the advertising responsibilities or violate the Act.
Article 3. Advertising Regulation: The regulating issues include managing the design, content, and broadcasting.
Article 4. Qualification of Advertising Agents: Advertising agents need to know how to do the marketing research, manage advertisement design and editing, and some knowledge in professional financing.
Article 5. Permissions For Advertising: Either an enterprise, solo proprietorship, or entity has to get the permission and required license from State Administration for Industry and Commerce before issue any advertisements.
Article 6. Conditions of Issuing Advertisement: The content of the advertisement cannot be violated the Chinese Law and Principles, government, or related to sexual products. Different types of ads need to get permission from different departments, for instance, the company that is advertising food product ads needs to get the permission from the Health Department.
Article 7. Violated Advertising Regulation and Responsibilities: If an organization violates the Advertising Act, like making fraudulent advertising to attract customers, it will be punished by paying stated monetary amount, or even lost its licensing if the condition is severe.
Article 8. Advertising Administrative Retrial and Lawsuit: If the advertising firm does not agree with the verdict, the firm can apply for retrial within fifteen days after the verdict. If it is still not satisfied with the result of retrial, it can appeal its case within 30 days after the retrial decision.
Trademark Law
Article 1. Overview of Trademark Law: Under the Trademark Law and its implementing regulations, foreign businesses seeking to obtain protection for their trademarks must retain an agent authorized by the State Administration for Industry and Commerce.
Article 2. Characteristics of Monopoly Trademark: Holder has the special right to use the trademark, and no one can use it unless receives the permission from the owner. The trademark will specify the usage in term of time and geographic area.
Article 3. Subject and Object of Trademark: The person who registers and the ones who get the permission are the subjects of trademark. Then, after the trademark has been registered to Department of Trademark, its name and logo becomes the objects of trademark.
Article 4. Application for Trademark: Same applicant can use the same registered trademark on different products. If there is anything need to be changed regarding the applicant (e.g. address) or the trademark itself (e.g. word or logo), the applicant needs to reapply another registration for that trademark.
Article 5. Rights and the System of Renewing Trademark: The life of a registered trademark is 10 years, however, it can be renewed six months prior its expiration. As a result, the life of a trademark can be extended indefinitely.
Article 6. Transferability: Holder has the right to transfer the trademark to other parties, however, they need to get the permission from the Department of Trademark.
Article 7. Contract: By establishing contracts, holder allows other people to use the trademark. Both parties have some rights and responsibilities. For instance, the party who receive the permission cannot use the trademark outside of the assigned area.
Article 8. Cancellation: There are three situations that will cause the trademark to be canceled: a) register an illegal trademark, b) breach the Trademark Law or Regulation, c) dispute regarding the trademark.
Article 9. Protection: Trademark Law protects the right of the individual who owns the trademark, and punishes people who violate the Trademark Law.
Antitrust Law
Article 1. Overview of Anti-competition and Antitrust Law: Starting December 1, 1993, Antitrust Law has put into effect. Antitrust Law aims to protect trade and commerce from unfair competition, unlawful restraints, price discrimination, price fixing and monopoly.
Article 2. Kinds of Anti-competitions: Anti-competitions include using fraudulent trademarks, packaging and names, acting as a monopoly, stealing trade secret, offering or receiving bribery, and destroying other competitors' reputation by spreading out fraudulent facts.
Article 3. Supervision and Regulation for Anti-competitions: State governments have the power to examine, inquire, investigate and punish the companies that are involved in the anti-competitions.
Article 4. Lawful Responsibilities in Violating Antitrust Law: Government can take all the profits that corporations earn from the anti-competitions, to compensate the companies who have experienced damages. Sometimes, those corporations may even lose their business licenses.
Business Law for Enterprises with Foreign Investment
Foreign direct investment in China mainly takes one of three forms of Foreign Investment Enterprises: 1. equity joint-venture, 2. contractual joint-venture, and 3. wholly foreign-owned subsidiary. In 1991, foreign investors were permitted to invest in listed companies for the first time through the vehicle of B shares, which are registered shares denominated in RMB listed on the stock exchanges of China and offered exclusively to foreign investors for purchase and sale using foreign currency.
To stimulate more foreign investment, in summer 1993, China's National People's Congress enacted The Income Tax Law of the People's Republic of China Concerning Enterprises With Foreign Investment and Foreign Enterprises, which imposes a uniform tax rate on all foreign business activity in China. The Law identifies two general classes of taxpayers: 1) foreign enterprises, and 2) domestic enterprises with foreign investments. A foreign enterprise is taxable only on income derived in China, while a domestic enterprise is taxable on all of its income. In most cases, only domestic enterprises with foreign investments qualify for certain preferential tax treatments. The general tax rate for domestic enterprises is 55%, but a foreign participation enterprise and a foreign enterprise pay only 33% on its business income. Depreciation, computed on a straight-line basis, may be taken on fixed assets that are used in business operations. It assesses a 20% passive income tax on passive income earned by any foreign enterprise without a business establishment in China (Lau & Auster, 1993).
Conclusion
Though it is still in state-run economy that includes elements of the free-market system. China is moving more and more towards market economy. In order to attract more capital and provide more protections to foreign investors, the Chinese government has passed several new Business Laws and Regulations. Before foreigners decide to invest or do businesses in China, it is very important for them to review some of those Laws, and see what the Chinese economy is offered, and notice their rights are. Furthermore, it is also one major step to understand the Chinese business environment.
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Lau, P. C. & Auster, R. 1993. New China tax Law address foreign investors. International Tax Journal, 19 (3): 43-53
Potter, P. B. 1995. Foreign Business Law in China. The 1990 Institute. South San Francisco, California.
Shizhong, D., Zhang, D. & Larson, M. R. 1992. Trade and Investment Opportunities in China: the Current Commercial and Legal Framework. Quorum books, Westport, Connecticut.
Taninecz, G. 1996. Made in China. Industry Week, 245 (22): 25-28.
Wei, J. 1994. Chinese Foreign Investment Laws and Policies. Quorum books, Westport, Connecticut.
References